Many active investors make huge loses because they lack financial skills or do not have adequate control over their investments. To become a sophisticated investor, you have to master the following skills:
Knowledge of Taxes
Taxes can make or break an investment. An otherwise attractive investment opportunity may have a huge downside after taking account its tax implications. It can erode the bottom-line.
You must have knowledge or seek advice on the tax implications of an investment. This will differ from person to person depending upon the financial situation. A knowledgeable investor can gain higher returns with low risk after studying the implications of tax law, corporate law, securities law, capital gains tax, stamp duty etc.
Management of Investment
When making an investment you must take into account on how you will manage the investment.
Some investments are messy and very difficult to manage even though they may promise very high returns.
For instance, it may be very attractive to buy a property or business overseas as it shows excellent cash flow and growth prospects. Your financial analysis may be right but before making such investments, you should take into account travel and administrative costs to manage the investment.
You will need to create legal entities in a foreign country, hire a tax accountant and managers to look after your asset. You have to understand time and management cost of an investment before rushing to make a decision.
High brokerage fee can sometime make an otherwise good investment into an average one. There are many investments that have re-occurring brokerage fees. Many times, it is only the broker who makes a profit and not you. An example of this is when you buy a property in an area that does not have stable tenancies. Re-leasing cost will dramatically reduce the net return from your investment.
Control Over Income and Expense
A good investment is when you can exercise control over income and expense of your investment. Investing in hotel units on profit share basis may sound very attractive especially when you can live in them for 2 to 4 weeks each year. Unfortunately, in such investments you neither have control over the income or expense. In most cases, returns from such investments are extremely poor.
Information is the key to making sound investment decision. If you do not have adequate or transparent information about an investment, refrain from buying it. Always cross check the information provided to you for its authenticity.
Don’t get duped by slick salesmen who appeal to your greed and put you under time pressure into making decisions with incomplete facts about an investment. Warren Buffet says that secret to his success is that he spends 80% of his time reading financial reports.
Terms and Condition of Agreements
It can be tedious reading through fine print in most agreements. This is especially true for agreements drafted by crafty lawyers of big corporations to be signed by small-time unsuspecting investors.
Most novice investors sign agreements without knowledge of the implications of certain clauses in the agreement. These can come to haunt you when you least expect. Ask anyone who has gone through an insurance claim.
If you are not sure about a clause, seek legal advice. It may cost you a little in the beginning but save you considerable amount of distress later. Best situation is if you have the control of setting your own terms and condition of an agreement.
Buying and Selling
You should have control over buying and selling an investment. There are investments that have long lock-in periods. It is best to avoid them.
By having control over buying and selling, exiting an investment if things go wrong becomes possible. It can also give you much needed liquidity in times of distress or if you wish to invest in a better opportunity. Remember there will always be a time when you will need to sell a long-term investment to maximize your profit.
This may not be possible for small-time investors but when you make major investments then always endeavor to have some management control. This will give you inside information regarding your investment.
While starting out, you may not be able to gain control in large corporations. It may be better for you to investment in small and medium size companies depending upon your budget. Better still, start your own company that gives you total control over your investment.
A knowledgeable investor creates entities not only to take advantage of taxes but also to protect the asset. These include forming Corporations, Limited Liability Companies, Trading Trusts and Family Trusts. It is best to seek legal advice as this will depend upon your situation, country you live in or location of your investment as laws differ for each country and sometimes states.